This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, click the "Reprints" link at the top of any article.

Evolving Coverage for Supply Chain Risks

Some insurers are starting to offer policies that don’t require physical damage as a trigger.

As companies stretch their supply chains around the world, accumulating risks along the way, insurance products are evolving to better protect against those risks.

Traditional insurance for supply chain risks involves contingent business interruption, which is an extension of a company’s property policy. Contingent business interruption comes into play if a company’s suppliers suffer property damage from insured perils and the property damage causes the insured company to suffer a business interruption loss, explained Scott Patterson, U.S. leader for property specialized risk at insurance company Marsh.

Because contingent business interruption is part of property coverage, which is triggered by physical damage, companies whose supply chains experience disruptions related to events that don’t involve physical damage—such as “strikes, government regulation, [or] volcanic ash clouds”—aren’t covered, Patterson said.

Now some insurers are offering insurance for supply chain disruptions that don’t stem from physical damage, he said.

One of those is Zurich. Linda Conrad, director of strategic business risk at Zurich Insurance Co., said the insurer’s research on supply chain problems shows physical damage usually isn’t one of the top five causes of disruptions. Given that physical damage is required to trigger contingent business interruption insurance, “there’s a fairly large gap” in coverage, said Conrad, who's pictured below.

She also cited shortcomings with other insurance products that can come into play when supply chains experience problems. Last year, the most frequent causes of supply chain disruptions were Internet, IT, and communication problems, Conrad said. Traditional cyber policies wouldn’t apply to those situations because they cover security, privacy, and loss of data, rather than communications outages. And marine insurance, which relates to the shipment of goods, covers the value of goods lost but not the costs the company incurs because of the delay in receiving the goods, she said.

Zurich developed a product to fill the gaps it saw in supply chain coverage, Zurich Supply Chain Insurance, which Conrad described as an “all-risk supply chain policy.

“We wanted a policy that was broad enough to cover all the crazy things that happen,” she said.

Conrad cited the example of a company that came through an earthquake in Chile without any damage, as did its supplier. “But the bridge between the two of them fell down, and they incurred this long interruption.”

Companies that use Zurich’s coverage name their key suppliers in the policy, Conrad said. They can name the suppliers they deal with directly, known as tier-one suppliers, or the businesses that supply their suppliers, known as tier-two suppliers, or suppliers even farther down the chain. Zurich’s research shows about 40% of supply chain disruptions involve problems that occur at suppliers that are below tier one, Conrad said, adding, “we find that most people don’t have a lot of information down the tiers or even what their potential business interruption is should something go wrong.”

Munich Re Targets Life Sciences, Aviation Munich Re is also rolling out coverage for supply chain losses that stem from causes other than physical damage. It currently has two versions of its standalone policy, one for the life sciences industry and the other for aviation, said Dirk Schäfer, a senior risk analyst at Munich Re. The carrier customizes the policies for each client, and if a company in another industry is interested in the insurance, Munich Re will adapt the policy to fit the circumstances in that industry.

“This is still a very new product for us, and for some risks and geographies we are obviously still in a development process,” said Arno Bongers, an underwriter at Munich Re. “But we are rolling this out now with a number of pilot clients and looking to make it available to a larger audience in the course of the next year.”

In life sciences, Munich Re cites regulatory enforcement actions as a factor that results in business interruptions that would not be covered by conventional business interruption policies; in aviation, the threats include terrorist attacks and health-related events like epidemics, Bongers said.

Companies using Munich Re’s non-damage business interruption coverage provide the names of the suppliers to be covered, the location of the facilities, and what parts the suppliers manufacture, as well as an estimate of the financial impact of an interruption of their business with each supplier.

“What we generally find [is that] the more advanced the client is when it comes to supply chain risk management, the better it is for both parties,” Schäfer said. “Then we can pinpoint critical risks instead of utilizing a broader cover for many risks that are not critical or dangerous for a company.”

Coverage for ShipmentsMark Robinson, vice president at UPS Capital North America, pointed to improvements in insurance to cover shipments. Some involve the use of new technologies, like inexpensive RFID chips that can be put inside packages to monitor the temperature during transit or detect whether a package is opened.

UPS Capital has a product, Proactive Response Secure, that covers pharmaceutical companies’ shipments of products that need to remain at a certain temperature. UPS monitors the product as it’s being shipped, and if delays occur its team will intervene to get the product to its destination, Robinson said. It has a similar product for wine companies, which also have concerns about the temperature of products being shipped.

Robinson argued that many midsize companies would have a hard time purchasing business interruption coverage because they haven’t yet mapped out their supply chains and identified their risks, and they wouldn’t be able to supply insurers with the information needed to take out an insurance policy.

A recent survey of supply chain executives by the University of Tennessee’s Global Supply Chain Institute and UPS Capital showed that risk management was not a key consideration in supply chain organizations. Just 10% of the surveyed executives said they assess the risks involved when outsourcing production. While 66% said their company has a risk manager, for the most part the supply chain executives said risk managers aren’t dealing with supply chain risks.

When the executives were presented with a list of 10 ways to manage supply chain risks, insurance was their last choice; choosing strong suppliers and compressing shipping times were the most popular options.

Zurich’s Conrad said that while companies routinely establish business continuity plans, just 8% of companies have such plans set up with their suppliers. “The more closely we manufacture, the more disruptive any kind of supplier disruption can be,” she said. “You need to know how to run not only just-in-time but also just-in-case.”

“It’s a very complex, just-in-time global supply chain that companies use,” Marsh’s Patterson noted. “Clients really need to understand the pain points in their supply chain and decide how they want to deal with those pain points. Are they going to spend money to bolster their supply chain? Secure additional suppliers to back up existing ones? Are they going to transfer or retain the supply chain risk?

“There are just so many different ways and methods and approaches within the supply chain,” he added. “That’s why drilling down on the actual supplier risk that you think is going to affect you the most is really, really critical.”

Treasury & Risk

Treasury & Risk is an online publication and robust website designed to meet the information needs of finance, treasury, and risk management professionals. Our editorial content, delivered through multiple interactive channels, mixes strategic insights from thought leaders with in-depth analysis of best practices, original research projects, and case studies with corporate innovators.